Lease Obligations Policy
-- GASB Codification Section L20
-- FASB Statement of Financial Accounting Standards Number 13
A lease is an agreement between a lessor and a lessee that gives the lessee the right to use property, plant, or equipment for a specific period of time in return for stipulated cash payments. Leases are classified as either capital or operating. A capital lease is an agreement that meets one or more of the criteria set forth in FASB Statement 13 for lease capitalization. A capital lease essentially transfers the benefits and risks of ownership of the leased asset to the lessee. Leases which do not meet any of the criteria set forth in FASB Statement 13 are operating leases.
GASB Codification Section L20 provides that, subject to the distinctions of governmental fund accounting, FASB Statement No. 13, Accounting for Leases, as amended and interpreted, should be the guidelines for accounting and financial reporting for lease agreements, except for operating leases with scheduled rent increases.
GASB Codification Sec. L20 .104 - .108 contains the guidelines for operating leases with scheduled rent increases. These guidelines are set forth below.
Operating Leases with Scheduled Rent Increases
This section establishes standards of accounting and financial reporting by state and local governmental entities for operating leases with scheduled rent increases. It applies to all state and local governmental entities, including public benefit corporations and authorities, public employee retirement systems, and governmental utilities, hospitals [and other healthcare providers], colleges, and universities. Scheduled rent increases are increases that are fixed by contract. They take place with the passage of time and are not contingent on future events. The rent increases may, for example, be based on such factors as anticipated increases in costs or anticipated appreciation in property values, but the amount of the increase is specified in the lease agreement. In contrast, in leases with contingent rentals, the changes in lease payments are based on changes in specific economic factors, for example, future sales volume, future inflation (for example, tied to a specific economic indicator), and so forth.
According to FASB Statement 13, a lease is considered a capital lease if it meets any one of the following criteria:
- The lease transfers ownership of the property to the lessee by the end of the lease term.
- The lease contains an option to purchase the leased property at a bargain price.
- The lease term is equal to or greater than 75% of the estimated life of the leased property (for example, the lease term is six years and the estimated life is eight years).
- The present value of rental and other minimum lease payments equals or exceeds 90% of the fair value of the leased property less any investment tax credit retained by the lessor (for example, the present value of the rental and other minimum lease payments equals $9,000 and the fair value is $10,000).
To determine whether a lease is an operating lease, the criteria listed above for capital leases must be applied. If it does not meet any of the criteria, the lease is considered to be an operating lease.
Operating lease payments are recorded as expenditures or expenses of the related funds when paid or incurred. Neither an asset nor an obligation is recorded for operating leases. Accordingly, rental payments are recorded as rental expenditure/expense in the operating statement.
The disclosure requirements of FASB Statement 13 should be included in the notes to the financial statements. Disclosures are required for both capital and operating leases.